Subsidies, politics, voters and taxpayers

Over a spread-out Sunday lunch yesterday, I got a lesson from three future taxpayers on India’s political economy. The question on the chicken-pasta table was: should India go ahead with the right to food bill and ensure that not a single stomach sleeps hungry even if it means increasing taxes? The answer from a 10-, 14- and 15-year-old, showed surprising — and inspiring — insights.

While the initial response was, “Yes, nobody should be hungry”, it is the layering that’s important. Unless the corruption issue is fixed and the government ensures that every rupee we pay as tax goes to feed the people it’s meant for, the answer was: No — the 15-year-old contexed the question to a story on how midday meals for the Dalit are not going where they should. Corruption and governance, the troika argued, have to be embedded into the question, quite like the quadratic equations they learn in school. Taking welfare economics further, they said not only food but shelter and healthcare too must be taken care of — nobody should die for lack of money — but why pour water into a leaking bucket?

Their perception is important in the context of last week’s Vijay Kelkar report on fiscal consolidation that argued for removing subsidies and UPA’s overall strategy for Elections 2014. It’s not easy to understand the term “fiscal consolidation”, leave alone fix it, but Kelkar’s report makes a valiant attempt. As far as reports go, there’s nothing in this report that’s not been already said by economists, Kelkar included. It is the intensity and urgency of the time and strong articulation this report pushes that we need to take seriously.

“High fiscal deficits tend to heighten inflation, reduce room for monetary policy stimulus, increase the risk of external sector imbalances and dampen private investment, growth and employment,” Kelkar says. In effect, if government spending is not brought under control immediately, we will lose more than mere face — without the money to finance it, growth that has already slowed down will come under pressure, new jobs will not get created, interest rates will stay high because inflation will not be controlled.

Unfortunately, given the signals emanating from North Block and UPA ministers, this report will likely end up serving just a short-term function — to provide an economic argument to justify the hike in diesel prices, made a few days before the report was released, though in tune with its recommendations. Whether the government will have the courage to go the whole hog and begin the process of gradually removing subsidies altogether remains to be seen.

“Our policy objectives should at a minimum aim to eliminate half of the diesel per unit subsidy during this year itself by March 31, 2013, and the remaining half over the next fiscal year,” the report stated.

Not removing these subsidies, the “do-nothing scenario”, is not acceptable anymore for three reasons — first, India's budget will get out of sync; second, the context of “exceedingly fragile” capital flows; and third, crowding-out of private sector financing for investment. The economic reforms that the government has recently initiated — FDI in retail, strategic FDI in civil aviation, first steps towards diesel deregulation and so on — will go some way, of course.

But before we get carried away, a look at realpolitik. Earlier in the week rural development minister Jairam Ramesh told me that the twin drivers of UPA’s electoral strategy for 2014 are going to be the land acquisition bill and the food security bill, like NREGA and RTI were for Elections 2009. Here’s how I read into these two surmises — Kelkar’s report and UPA’s electoral strategy.

The structure of vote buying will change. Instead of buying votes through the flogged-out and half-dead horse of subsidies, the money thus saved will go to finance the food security bill. The money saved by raising the prices of the three Fs that contribute 90% of all existing subsidies — fuel, fertilisers and food. In tune with the underlying philosophy, the Kelkar report concludes that “The food security bill, which is on the anvil, may be appropriately phased taking into account the present difficult fiscal challenges.”

What the government is likely to do is to wait in the short term and see how the diesel price hike is taken in stride. Already, protest movements are dying — from Coalgate they moved to reforms and now to prices — and political opposition is diffused. The government may actually carry on with Kelkar's recommendations and increase prices of fuel over the next two years, gradually.

But, the money the government will free up will be enslaved once again by the food security bill. The government will clear the bill after the Budget has been passed. It may table it during the next Monsoon session of Parliament. Counter-politics will prevent the legislation from being passed. But come April 2014 and the story the UPA will take to the electorate will be: “Oh well, we tried but the Opposition didn't allow us, now if you give us a larger mandate, we will --- this is our promise.” Issues of corruption and governance that matter will be lost in translation.

Whether the electorate buys that promise to feed or not is a question I leave with our future taxpayers, now enjoying ice-cream.